Investment
British- and
American English, respectively.is related to
saving or deferring
consumption. Investing is the active redirection of resources/assets to creating benefits in the future; the use of resources/assets to earn income or profit in the future. Investment is involved in many areas of the economy, such as
business management and
finance no matter for households, firms, or governments. An investment involves the choice by an individual or an organization such as a pension fund, after some analysis or thought, to place or lend money in a vehicle, instrument or asset, such as
property,
commodity,
stock,
bond,
financial derivatives (e.g.
futures or
options), or the foreign asset denominated in foreign currency, that has certain level of risk and provides the possibility of generating returns over a period of time.Graham, Benjamin, and David Dodd (1951). Security Analysis. McGraw-Hill Book Company. ISBN 0071448209
Investment comes with the risk of the loss of the
principal sum. The investment that has not been thoroughly analyzed can be highly risky with respect to the investment owner because the possibility of losing money is not within the owner's control. The difference between
speculation and investment can be subtle. It depends on the investment owner's mind whether the purpose is for lending resource to someone else for economic purpose or not. Graham and Dodd (1951). Security Analysis. McGraw-Hill Book Company. ISBN 0071448209
In the case of investment, rather than store the good produced or its money equivalent, the investor chooses to use that good either to create a durable consumer or producer good, or to lend the original saved good to another in exchange for either interest or a share of the profits. In the first case, the individual creates durable consumer goods, hoping the services from the good will make his life better. In the second, the individual becomes an entrepreneur using the resource to produce goods and services for others in the hope of a profitable sale. The third case describes a lender, and the fourth describes an investor in a share of the business. In each case, the consumer obtains a durable asset or investment, and accounts for that asset by recording an equivalent liability. As time passes, and both prices and interest rates change, the value of the asset and liability also change.
An
asset is usually purchased, or equivalently a deposit is made in a bank, in hopes of getting a future
return or interest from it. The word originates in the Latin "vestis", meaning garment, and refers to the act of putting things (money or other claims to resources) into others' pockets. See
Invest. The basic meaning of the term being an asset held to have some recurring or capital gains. It is an asset that is expected to give returns without any work on the asset per se. The term "investment" is used differently in economics and in finance. Economists refer to a real investment (such as a machine or a house), while financial economists refer to a financial asset, such as money that is put into a bank or the market, which may then be used to buy a real asset.
In economics or macro-economics
In
economics or
macro-economics, fixed asset investment or formation (sometimes simply called investment) is the production per unit time of
goods which are not consumed but are to be used for future production. Examples include tangibles (such as building a
railroad or
factory) and intangibles (such as a year of schooling or on-the-job training). In
measures of national income and output, gross investment (represented by the
variable I) is also a component of
Gross domestic product (GDP), given in the formula GDP = C + I + G + NX, where C is consumption, G is government spending, and NX is net exports. Thus investment is everything that remains of production after consumption, government spending, and exports are subtracted.
Both non-residential investment (such as factories) and residential investment (new houses) combine to make up I. Net investment deducts
depreciation from gross investment. It is the value of the net increase in the capital stock per year.
Investment, as production over a period of time ("per year"), is not
capital. The time dimension of investment makes it a
flow. By contrast, capital is a stock, that is, an accumulation measurable at a point in time (say December 31).
Investment is often modeled as a function of Income and Interest rates, given by the relation I = f(Y, r). An increase in income encourages higher investment, whereas a higher interest rate may discourage investment as it becomes more costly to borrow money. Even if a firm chooses to use its own funds in an investment, the interest rate represents an
opportunity cost of investing those funds rather than lending out that amount of money for interest.
Investment related to the business of a firm -- business management
The investment decision (also known as
capital budgeting) is one of the fundamental decisions of business management: Managers determine the investment value of the assets that a business enterprise has within its control or possession. These assets may be physical (such as buildings or machinery), intangible (such as
patents, software, goodwill), or financial (see below). Assets are used to produce streams of revenue that often are associated with particular costs or outflows. All together, the manager must determine whether the
net present value of the investment to the enterprise is positive using the marginal
cost of capital that is associated with the particular area of business.
In terms of financial assets, these are often marketable
securities such as a company stock (an equity investment) or bonds (a debt investment). At times the goal of the investment is for producing future cash flows, while at others it may be for purposes of gaining access to more assets by establishing control or influence over the operation of a second company (the investee).
In finance
In
finance, investment is the commitment of funds by buying
securities or other monetary or paper (financial) assets in the
money markets or
capital markets, or in fairly
liquid real assets, such as
gold,
real estate, or collectibles.
Valuation is the method for assessing whether a potential investment is worth its price.
Returns on investments will follow the
risk-return spectrum.
Types of financial investments include shares, other
equity investment, and
bonds (including bonds denominated in foreign
currencies). These financial assets are then expected to provide income or positive future cash flows, and may increase or decrease in value giving the investor capital gains or losses.
Trades in
contingent claims or
derivative securities do not necessarily have future positive expected cash flows, and so are not considered assets, or strictly speaking, securities or investments. Nevertheless, since their cash flows are closely related to (or derived from) those of specific securities, they are often studied as or treated as investments.
Investments are often made indirectly through
intermediaries, such as
banks,
mutual funds,
pension funds,
insurance companies,
collective investment schemes, and
investment clubs. Though their legal and procedural details differ, an intermediary generally makes an investment using money from many individuals, each of whom receives a claim on the intermediary.
Within
personal finance, money used to purchase
shares, put in a
collective investment scheme or used to buy any asset where there is an element of capital risk is deemed an investment.
Saving within personal finance refers to money put aside, normally on a regular basis. This distinction is important, as
investment risk can cause a capital loss when an investment is realized, unlike
saving where the more limited risk is cash devaluing due to
inflation.
In many instances the terms saving and investment are used interchangeably, which confuses this distinction. For example many
deposit accounts are labeled as investment accounts by banks for marketing purposes. Whether an asset is a saving(s) or an investment depends on where the money is invested: if it is cash then it is savings, if its value can fluctuate then it is investment.
Real estate as the instrument of investment
In
real estate, investment money is used to purchase
property for the purpose of holding or leasing for income and there is an element of capital risk.
Residential real estate
The most common form of real estate investment as it includes property purchased as a primary residence. In many cases the buyer does not have the full purchase price for a property and must engage a lender such as a bank, finance company or private lender. Different countries have their individual normal lending levels, but usually they will fall into the range of 70-90% of the purchase price. Against other types of real estate, residential real estate is the least risky.
Commercial real estate
Commercial real estate consists of multifamily apartments, office buildings, retail space, hotels and motels, warehouses, and other commercial properties. Due to the higher risk of commercial real estate, loan-to-value ratios allowed by banks and other lenders are lower and often fall in the range of 50-70%.
See also
Notes
External links
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